- Amazon is reportedly looking to lease 20 Boeing 767 jets to be used in its air delivery service.
- The company also reportedly purchased thousands of delivery trucks.
- How are these moves likely to impact Amazon's bottom line and, consequently, Amazon stock price?
The Seattle Times has reported that Amazon (NASDAQ:AMZN) is in talks with various air-cargo aircraft lessors about leasing 20 Boeing 767 jets to be used in the company’s air-delivery services. In a separate report, Cargo Facts has said that Amazon is in talks with Boeing itself to acquire 20 767 widebody freighters, which implies that Amazon could be planning to actually purchase the airplanes. Amazon has been relying heavily on UPS and FedEx for its air-deliveries, but the two companies apparently are unable to keep up with Amazon’s rapidly growing demand for the service. For instance two years ago, UPS, Amazon’s biggest delivery partner, botched up delivery of Christmas gifts to Amazon customers resulting in embarrassing delays for the online giant. Amazon decided to refund shipping costs and give a $20 Amazon gift card to all aggrieved customers in reparation.
Note: You might also be interested in 'Amazon Unveils 30 Minute Drone Delivery Plan'
Amazon has reportedly been running an air cargo trial out of Wilmington, Ohio, and could decide to start a fully-fledged air cargo operation as early as January 2016.
Cost and bottom line implications for Amazon
The need for Amazon to exert more control on its delivery is perfectly understandable. People expect their orders to be delivered on time, and will readily shift to another retailer if their existing one is unable to meet their needs. Package-delivery services are already showing signs of strain this holiday season with tracking-software developer ShipMatrix saying that on-time delivery rates for UPS and FedEx are tracking lower this year compared to the previous year. You can only expect the problem to get worse in the coming years due to the rapid growth of ecommerce. Although UPS says that its on-time shipping performance currently sits around 97%, Amazon is a perfectionist and would no doubt like to take that figure as close to 100% as possible.
But for Amazon’s investors, Amazon’s air-cargo delivery program could have huge cost implications. The Seattle Times estimates that leasing a new Boeing 676F costs $600K-$650K a month, while leasing converted freighter jets, which is what Amazon is more likely to use, costs half as much--$300K-$325K a month. Assuming Amazon uses converted freighter jets, then we are looking at leasing costs of $72M per year for the 20 jets. Fuel costs account for roughly 30% of the operating costs for major airlines. We therefore estimate that fuel, labor, and other costs will add at least 70% to that cost, so the air delivery program is likely to cost Amazon ~$122 million per year.
Amazon finished the last quarter with a net profit of $79 million, or about $316 million annualized. The cost of doing air deliveries is therefore likely to cut off almost 40% of Amazon’s profits, which could be a drag for Amazon stock price. The situation could get more aggravated if recent reports that Amazon has purchased thousands of delivery trucks turns out to be accurate. According to the report, Amazon had purchased the delivery trucks to move merchandise from one fulfilment center to another. The Amazon-branded trucks will be driven by Amazon’s trucking partners.
Short-term pain, long-term gain
Amazon stock price is up 114% YTD as the investing universe celebrates the company’s return to profitability.
Amazon’s recent spate of profits has been brought about by rapid growth of AWS and lower capex spending. Amazon spent $4.9 billion in capex in 2014. During the first three quarters of the current year, the company spent $3.3 billion on capex, which works out to $4.4 billion for the full year, or $500M less than what it spent last year.
The air delivery program plus the purchase of thousands of delivery trucks is therefore likely to have a tangible impact on Amazon’s profitability in the short-term, which could hit Amazon stock performance. But Amazon can recoup its investments when it implements drone delivery. It’s estimated that Amazon can lower its delivery costs from $7.99 to just $1 by deploying drones to deliver customer orders. Drone capex is quite low since estimates are that the company will spend about $100M to purchase the drones it requires for its drone delivery program and another $300M in delivery costs for ~400 million orders per year. By using drones for delivery services, Amazon can realize savings of as much as $2.8B per year in delivery costs, more than what it costs to lease the airplanes and purchase delivery trucks.
Depending on whether or not Amazon decides to lease the delivery jets, the effect on the company’s capex is likely to be limited to the short-term since profits would most likely be affected in maybe the next 2-3 quarters. But the huge cost savings once the company starts using drones in its delivery would provide some serious boost to Amazon’s bottom line and could drive Amazon stock price significantly higher.